How to Start a Nonprofit Organization / Corporation – Definition & Examples
Nonprofit organizations are formed in order to conduct activities and transactions for purposes other than shareholder financial gain, while at the same time providing the same asset protections and limited liabilities of a standard corporation. A nonprofit corporation can make a profit, but this profit must be used strictly to forward the goals rather than to provide earned income (in the form of dividends) to its shareholders. It is understood that most of the transactions and activities of a Nonprofit Corporation will not be commercial in nature.
Nonprofit Organization Categories
A nonprofit organization organized under 501(c)3 of the Internal Revenue Code must fall into one or more of the following categories:
Comparison of Nonprofit and For-Profit Organizations
Most experts consider that it is the legal and ethical restrictions on the distribution of profits to owners or shareholders which fundamentally distinguishes nonprofits from “for-profit, or commercial enterprises. A more precise term to describe most nonprofit organizations is ‘not-for-profit’, rather than ‘nonprofit’, and this is often used in legislation and texts.
Nonprofit corporations generally do not operate to generate profit, a defining characteristic of such organizations. However, a nonprofit organization may accept, hold and disburse money and other things of value, and it may also legally and ethically trade at a profit, provided that the proviso that any profit generated will be used to further its cause, goal or mission is adhered to. The extent to which it can generate income may be constrained, or the use of those profits may be restricted. Nonprofits therefore are typically funded by donations from the private or public sector, and often have tax exempt status. Private donations may sometimes be tax deductible.
Additionally, a nonprofit organization may have members as opposed to shareholders.
Goals and Missions of the Non-Profit Corporation
Nonprofit organizations or corporations are often charities or service organizations; they may be organized as a not-for-profit corporation or as a trust, a cooperative, or they may be purely informal. Sometimes they are also called foundations, or endowments that have large stock funds. Most foundations give out grants to other nonprofit organizations, or fellowships to individuals. However, the name foundations may be used by any not-for-profit corporation — even volunteer organizations or grass roots groups.
A nonprofit may be a very loosely organized group, such as a block association or a trade union, or it may be a complex structure such as a university, hospital, documentary film production company or educational book publisher.
In many countries applying Germanic or Nordic law (e.g. Germany, Sweden, Finland), nonprofit organizations typically are voluntary associations, although some have a corporate structure (e.g. housing corporations). A voluntary association is usually founded upon the the principle of one man–-one vote. A large, nation-wide organization usually is organized as a league: the local level has a town- or county-level association with natural person membership, these associations being members of the national association. This is perceived to achieve local-level maximized autonomy, while still protecting the general corporation from the legal or financial blunders of any single association. The organization of such leagues (e.g. trade union or a party) may be extremely complex. There are often separate laws regulating usual, “idealist” associations (anything from a sports club to a trade union), political parties and religious denominations, restricting each type of organization to its chosen field.
Types of Nonprofit Organizations
There are two types of nonprofit corporations: membership corporations and charitable corporations. It is necessary to distinguish between the two types because the responsibilities of each vary.
A membership corporation carries on activities that are primarily for the benefit of its members. It is supported by its members through fees, donations, loans or any combination of these. Examples of membership corporations are golf clubs, social clubs, special interest organizations, day cares, etc.
A charitable corporation carries on activities that are primarily for the benefit of the public. It may solicit donations from the public, receive government grants in excess of 10% of its yearly income or register as a charity within the meaning of the Income Tax Act.
Remember, both types of corporations have members. A corporation is not a membership corporation just because it has members; a charitable corporation has members too. The members of any nonprofit corporation, membership or charitable, have a status similar to that of the shareholders of a business corporation, and are usually afforded .
The main differences between a membership corporation and a charitable corporation are:
- who benefits from the activities (the members or the public);
- who supports the organization financially; and
- how the surplus is distributed upon dissolution
Legal Issues to Consider
Most states have individual laws regulating the establishment, structure, and management of nonprofit corporations. The same holds true for different countries: most have laws which regulate the establishment and management of nonprofit organizations, and which require compliance with corporate governance regimes. Most larger organizations are required to publish their financial reports detailing their income and expenditure for the public. Although very similar to business, or for-profit, entities, they can differ on very significant levels. Both nonprofit and for-profit entities must have board members, steering committee members, or trustees who owe the organization a fiduciary duty of loyalty and trust. A notable exception to this involves churches, which are often not required to disclose finances to anyone, not even its own members if the leadership choose.
How to Form a Nonprofit Organization
In the United States, nonprofit organizations are normally formed by incorporating in the state in which they expect to do business. The act of incorporating creates a separate legal entity enabling the organization to be treated as a corporation under law and to enter into business dealings, form contracts, and own property as any other individual or for-profit corporation may do.
Much like a standard, for-profit corporation, nonprofits can have members although many do not. The nonprofit may also be a trust or association of members, and the organization may be controlled by its members who elect the Board of Directors or Board of Trustees. Nonprofits may have a delegate structure to allow for the representation of groups or corporations as members. Alternately, it may be a non-membership organization and the board of directors may elect its own successors.
A primary difference between a nonprofit and a for-profit corporation is that a nonprofit does not issue stock or pay dividends, (for example, The Code of the Commonwealth of Virginia includes the Non-Stock Corporation Act that is used to incorporate nonprofit entities) and may not enrich its directors. However, like for-profit corporations, nonprofits may still have employees and can compensate their directors within reasonable bounds–but these must be, as is the case with for-profit corporations, precisely documented and kept in the corporate minutes or corporate record.
Tax Exemption Status
In many countries, nonprofits may apply for tax exempt status, so that financial donors may claim back any income tax paid on donations and so that the organization itself may be exempt from income tax. In the United States, after a recognized legal entity has been formed at the state level, it is customary for the nonprofit corporation to seek tax exempt status with respect to income tax. That is done by applying to the Internal Revenue Service (IRS). The IRS, after reviewing the application to ensure the purpose of the organization meets the conditions to be recognized as a tax exempt organization (such as a charity), issues an authorization letter to the nonprofit granting it tax exempt status for income tax purposes. The exemption does not apply to other Federal taxes such as employment taxes.
Issues Faced by Nonprofits
Operational Capacity support is an ongoing problem faced by nonprofits that rely on external funding to maintain their operations, largely because nonprofit organizations have little control over their source(s) of revenue. Increasingly in the United States, many nonprofits rely on government funds to support their operations, often through grants, contracts, or customer-sided subsidies, such as vouchers or tax credits. The form of revenue is quite significant to the viability and stature of the nonprofit corporation as it influences the reliability or predictability with which the organization can hire and retain staff, sustain facilities, or create programs.
Successful Non-Profit Examples
The largest and most successful nonprofit organizations in the world are found right here in the United States: The Bill and Melinda Gates Foundation, and the Howard Hughes Medical Foundation, each representing endowments of $27 billion and $11 billion, respectively. The United Kingdom comes in a solid second with its British Welcome Trust, known as a “charity” n British usage and terminology. It is important to note that these comparisons exclude Universities, many of which are themselves formed as nonprofit corporations and some with a worth in excess of tens of billions of dollars.
Cited as examples below are a few very well known, and in most cases, very well respected, nonprofit corporations and organizations:
- Amnesty International
- Better Business Bureau
- Big Brothers Big Sisters of America
- Boy Scouts of America
- Cato Institute
- ChildVoice International
- The Nature Conservancy
- Red Cross
- The Rotary Foundation
- Special Olympics
- Women’s Voices. Women Vote
- World Wildlife Fund (WWF)*
*(A very well known case of trademark/corporate name infringement involving the World Wildlife Fund and the World Wrestling Federation (the former a nonprofit corporation and the latter a for-profit business) resulted in the courtroom loss of the rights to the name “WWF” by the World Wrestling Federation–they have since changed their abbreviated trademark name to “WWE”)
Additionally, there are also millions of smaller nonprofit organizations that provide social services or the arts to people throughout the world. There are more than 1.6 million nonprofits in the United States alone. For more see Wikipedia articles on nonprofit organizations
Non-Profits On the Internet
Most nonprofit corporations or organizations use the “.org” top-level domain affix when selecting a domain name to differentiate themselves from more commercially-focused entities which typically use the “.com” affix or space. In the traditional domain categories as noted in RFC 1591, “.org” is cited as being used for “organizations that didn’t fit anywhere else” in the naming system, which although vague, inherently implies that it is the proper category for non-governmental, noncommercial organizations. It is not specifically designated for charitable organizations or any specific organizational or tax-law status, however; it encompasses anything that does not fall into another category. Currently, no restrictions are enforced on registration of “.com” or “.org,” so you can find organizations of all sorts in either of these domains, as well as other top-level domains including newer, more-specific ones which may fit particular sorts of organizations such as .museum for museums. Organizations might also register under the appropriate country code top-level domain for their country. In spite of this ad hoc regulation, it is important for the visibility of a non-profit that they adhere to the rapidly-establishing convention and use the “.org” top-level space.
Organizations with local, regional, or national chapters might give them subdomain addresses in a hierarchical structure, such as california.example.org for the California state chapter, and sanjose.california.example.org for the San Jose group within California chapter. However, in some cases local chapters register separate domains such as sanjoseexample.org, which can produce inconsistency in the naming structure; if they do not coordinate their naming, another chapter might get an inconsistent name such as example-sanfrancisco.org.
Should I Start a Nonprofit Organization?
If you intend for your business to conduct activities and transactions for purposes other than member financial gain, while at the same time providing the same asset protections and limited liabilities of a standard corporation, then the Non-Profit Corporation makes sense for you. Remember that while the non-profit can hire staff and pay the President or Executive Director a reasonable salary, it is not a commercial venture and there cannot be dividends or disbursements to members.